How fixed-rate mortgages work
A fixed-rate mortgage locks in your interest rate for the full term — typically 5 years. Whatever happens in the broader rate environment, your rate doesn't change. Your monthly payment is the same in month 60 as it was in month 1.
The trade-off: you're typically paying a small premium for that certainty. Fixed rates are usually 0.50-1.50% higher than variable rates at any given moment, because the lender is taking on the risk of locking you in.
Fixed-rate mortgages also carry larger penalty exposure if you break early. The penalty is calculated as the higher of 3 months' interest OR the interest rate differential (IRD) between your contract rate and current market rates over the remaining term. In falling-rate environments, IRD penalties on fixed mortgages can be substantial.
How variable-rate mortgages work
Variable-rate mortgages have a rate that fluctuates with the lender's prime rate — typically expressed as Prime - X%. If prime is 6.95% and your discount is 1.10%, your effective rate is 5.85%. When prime moves, your rate moves the same amount.
The Bank of Canada announces prime rate changes 8 times per year, and major banks adjust their prime within hours. Most variable mortgages have an adjustable payment structure — when rates rise, your payment rises; when rates fall, your payment falls. A few have static payment structures where the payment stays the same and the principal/interest split adjusts (these are riskier in rising-rate environments).
Variable-rate break penalties are simpler — typically 3 months' interest, no IRD calculation. This makes variable mortgages easier and cheaper to break early.
Historical performance: variable vs fixed
Over the last 30+ years, variable-rate mortgages have beaten fixed about 75-80% of the time on average. The reason is structural: the yield curve is usually upward-sloping (long-term rates higher than short-term rates), so the variable rate starts lower and the lender's profit comes from the term spread, not from rate predictions.
But "on average" doesn't help if you happen to be in a period when rates rise sharply. In 2022-2023, Canadian variable-rate borrowers saw their rates rise from ~1.5% to ~6.5% within 18 months — devastating for monthly cash flow. People who locked into 5-year fixed rates at 2% in 2021 looked very smart through that period.
The honest read: variable wins more often, but fixed wins more decisively when it wins. A 5% variable advantage over 30 years is real but only worth a few thousand dollars per year. A 4% rate spike on variable can blow up your monthly budget overnight.
When fixed makes sense
Fixed makes sense when: you need budget certainty (your monthly payment can't move by $500 without disrupting your life), you expect rates to rise meaningfully, you're early in a long mortgage and want to lock in current rates, OR you're risk-averse and the savings of variable aren't worth the volatility.
Fixed especially makes sense for first-time buyers and tight-budget borrowers. If a 2% rate increase would force you to sell or default, fixed is essentially insurance against that outcome — and the premium is small.
When variable makes sense
Variable makes sense when: you expect rates to fall, you can absorb monthly payment volatility without distress, you want the option to break the mortgage cheaply (3 months' interest vs IRD), OR you're philosophically comfortable with average-better-but-volatile outcomes.
Variable also fits borrowers in transitional life stages — selling within a couple of years, expecting a major life change, planning a refinance. The lower break penalty pays off when you exit early.
The fixed-vs-variable decision in practice
Don't agonize. The expected difference between the two over a 5-year term is usually 0.50-1.50% per year — meaningful but not life-changing. Pick the one that lets you sleep at night and renew at maturity.
Most lenders allow you to convert variable to fixed at any time mid-term, at the lender's posted fixed rate at conversion time. This is a useful safety valve — you can start variable to capture the rate advantage and lock to fixed if rate movement makes you uncomfortable.
What matters more than fixed vs variable: getting a good rate (which often means using a broker to shop the market), choosing a lender with fair break-penalty terms, and ensuring your prepayment privileges fit how you'd actually use them.